Bank of Canada inflation fights ‘kamikaze mission’ essential in recession: Desjardins

Desjardins Capital Markets warns against pushing the Bank of Canada into a “kamikaze mission” if it intends to bring inflation back to its 2 per cent target.

In a note to clients on Wednesday, Desjardins managing director and head of macro strategy, Royce Mendez, said that if the central bank was firmly determined to bring price pressures back into range, the cost would be significant, especially as workers push for higher wages to combat the erosion of purchasing power. .

The only sure way to contain this danger is to undertake a suicide mission. Looking at US wage data, since Canadian numbers don’t go back in time, it’s clear that recessions can break the cycle [of higher wages fueling inflation,]” He said.

Mendes said Bank of Canada Governor Teff McClem and his colleagues have no option to trigger such a recession if they hope to break the current inflationary cycle, where price pressures are more than three times the central bank’s target rate.

To reach its inflation mark, the central bank now has no choice but to target a recession. Recession caused by monetary policy in Canada became our primary expectation in early summer. Recent data releases and the Bank of Canada’s reaction to it have reinforced this view.

“While some stores are still debating whether or not a recession is looming, we are now wondering if it will just be a mild slowdown.”

Canadian inflation has fallen slightly from its recent peak of 8.1 percent – largely due to lower gasoline prices – but remains at 7.6 percent, well above the central bank’s comfort range.

This has led to the Bank of Canada warning of the potential for a so-called “wage price spiral” as workers demand higher compensation, which in turn leads to more money in consumers’ pockets which will actually lead to higher prices. While wages in Canada have not kept pace with inflation, they are still running at about five and a half percent.

While Mendes and Desjardins’ team still forecast the final interest rate – the point at which central banks finish their policy cycle of raising or lowering the cost of borrowing – at 3.75 per cent, he cautioned that new variable rate home buyers could be a pain. Mortgage.

“Even the final interest rate of just 3.75 percent causes problems for these borrowers, as the monthly interest due on the mortgage slightly exceeds the total fixed payment,” he said.

However, mortgages originating in September 2021 are far from the worst in the face of the rise in interest rates. Homebuyers who borrowed after September 2021 will have less time to repay the principal while prices have been at low levels.”

Desjardins previously forecast that national home prices will fall by 23 per cent from their peak in February to the end of next year.

Although more pain is expected, Mendes said the central bank must remain firm – and communicate – with Canadians about the policy path forward.

Overall, we expect central bankers to be more vocal in the coming months. They will need to realize the possibility of a recession while remaining resolute in their quest to beat inflation despite that possibility.”